After a dramatic ending of their professional relationship and respective roles at PIMCO in 2014, Bill Gross (now at Janus) and Mohamed El-Erian (of PIMCO parent Allianz) have started off 2015 with a similar view on higher interest rates. But they had a different take on what the 0.2% drop in average wages means.
Speaking on Bloomberg radio early Friday, Gross said that the Federal Reserve may be concerned about the level of economic expansion that could tolerate an uptick in interest rates, given that wage growth improvements are trailing increases in U.S. employment.
When asked why the yield on the 10-year Treasury is low, “It’s about wages,” Gross replied. “The market is conflicted over what the Fed will do.”
Later, El-Erian spoke on Bloomberg TV about what the recent employment and wage figures mean for a possible hike in rates.
The Federal Reserve “is looking at many [barometers], and it also has to keep an eye on financial stability,” he said. “I think the only thing that derails the Fed is if we get a catastrophe outside the U.S.”
On Friday, the latest jobs report showed employment growth of an estimated 252,000 positions in December, topping expectations. In addition, the jobless rate fell to 5.6%, but worker earnings unexpectedly dropped 0.2% from November.
While recognizing this “wage puzzle,” El-Erian said the trend “will not keep the Fed on the sideline. I think the Fed is going to look at the holistic improvement in the economy and is going to take this as its cue to start hiking rates — very gradually and with a destination point well below historical averages.”
In terms of timing, he sees the change in rates as likely to happen in the summer. “The U.S. economy is on the path of recovery. It is not liftoff, but a solid recovery. And, on that basis alone, they would move this summer,” he explained.
Gross, though, thinks the Fed is more concerned with employment and wage data. ‘‘We are creating a lot of jobs; part of it may be part time,” he said. “The creation of jobs is one thing; the creation of wages is another. Minus 0.2% in the month and a 1.7% annual hourly increase just isn’t enough to sustain the U.S. economy. “The Fed would want a lot of jobs,” Gross said. “The Fed would want a lot of growth. They just would not want a lot of inflation. Certainly with the hourly wage number being what it is, at 1.7%, if they are to reach their 2% inflation target that basically means they are going to need 3% to 3.5% wage increases going forward.”
Still, Gross predicts the Fed will boost rates this year. “We’re going to see a slight rise perhaps in the Fed funds rate late in the year, but not significantly so, maybe 50 basis points by the end of the year,” he explained.
The bond guru also says that the current bull markets (in equities and fixed income) could be ready for a shift. If interest rates have “nowhere to go but up, and obviously the question is by how much and when, then I think it’s fair to say that this 30-year bull market in assets, which is primarily based on financial-asset inflation and financial leverage, is certainly flattening out and may be coming to an end,” Gross said.
Even with that broad outlook, Gross says he has a positive view of some investments: “I like, for instance, the BlackRock Build America closed-end fund, which is a long-bond fund at 7.1%,” he said. “It’s very attractive [and] has very little volatility relative to the long bond.”
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